The Big Tariff era is here

Joe Biden is about to slap 100% tariffs on Chinese-made electric vehicles. A 100% tariff is an absolutely huge tariff. It means that Chinese EV makers would have to sell their EVs in the US at half the price of EVs manufactured elsewhere in order to be competitive. That just isn’t going to happen.

A 100% tariff will probably be enough to keep essentially all made-in-China EVs out of the US. The Rhodium Group recently came out with a report called “Ain’t No Duty High Enough”, arguing that Europe would need 40-50% tariffs to keep Chinese EVs out:

The European Commission is likely to impose countervailing duties on imports of electric vehicles (EV) from China in the coming months to head off the risk of subsidized cars damaging Europe’s auto industry. We expect the Commission to impose duties in the 15-30% range.

But even if the duties come in at the higher end of this range, some China-based producers will still be able to generate comfortable profit margins on the cars they export to Europe because of the substantial cost advantages they enjoy.

Duties in the 40-50% range—arguably even higher for vertically integrated manufacturers like BYD—would probably be necessary to make the European market unattractive for Chinese EV exporters. As countervailing duties at this level are unlikely, policymakers in Brussels may decide to turn to non-traditional tools to shield the European auto industry, including restrictions based on environmental or national security-related factors.

Well, Rhodium is right that non-tariff barriers — basically, sneakily crafted regulation that foreign products can’t satisfy but domestic products can — are pretty effective in shutting out imports. And they may be right that 40-50% tariffs will be politically impossible in Europe. But Biden’s new tariff is double the rate Rhodium mentions. That’s just going to nuke all Chinese EV exports to the US.

Now, nuking all Chinese EV exports to the US will result in essentially zero change to anyone’s life. The reason is that China currently sells almost zero EVs to the United States:

Source: CSIS

So if you’re an American, you weren’t buying a Chinese EV yesterday, and now you’re not going to buy one tomorrow either. Nothing will change for you.

But that doesn’t mean these tariffs are performative. They’re preventative. In the past we’ve seen examples of where China suddenly floods the US or other countries with a massive amount of a certain export product — for example, excavators. Biden’s tariff will ensure that this doesn’t happen with EVs.

So is that good or bad? Are tariffs going to make life more expensive for Americans? Will Biden’s move give a boost to the US auto industry? Will it slow down the green transition? What does this mean for US trade policy going forward?

I shall try to answer those questions.

Will the tariffs on Chinese EVs make life more expensive for Americans?

The short answer to this question is “No”, and the reason is just the chart above. Americans weren’t buying any Chinese EVs, so doubling the price of Chinese EVs isn’t going to make Americans pay more for anything.

Now, what the tariff might do is prevent a future cheap EV bonanza from reaching America’s shores. It’s possible that if Biden had done nothing, China would have flooded the US with bargain-price high-quality EVs.

And then a bunch of Americans who are feeling stressed about high interest rates and the price of groceries might have been able to get a bit of relief by buying a cheap high-quality Chinese-made electric car.

And Chinese EVs are very good. China has struggled to make good internal combustion engines, but the shift to EVs has allowed them to leapfrog ICE vehicles entirely. Since China dominates the battery industry, mastering EVs was easy.

Kevin Williams has a long article about the high quality of Chinese electric cars, which you should read despite the fact that it contains a fair share of histrionic hand-wringing “We’re cooked”, etc.). Williams’ conclusion is spot on:

If the US and Europe get what they want—a crackdown on Chinese imports—it doesn’t feel like it would result in better cars. It feels like it would keep buyers of those markets locked to cars that aren’t executed as well.

It’s nakedly protectionist because deep down, all of the Western auto executives and some hawkish China pundits understand that Chinese EV and PHEV models are more compelling than what European, other Asian, and American brands have come up with.

This is correct. And it’s reasonable to worry that without the competitive pressure from Chinese imports, stodgy old companies like GM and Ford — and even Tesla — will have far less reason to copy innovative Chinese features like screen-based controls. American consumers could end up with a dowdier, lower-quality selection of vehicles.

But I don’t think that’ll happen, for one simple reason: Chinese car companies don’t have to make their cars in China.

Tariffs are applied based on where final assembly for a good takes place. So if BYD or other Chinese carmakers put their factories in America — or in Mexico, or Canada, or any place other than China — they will still be able to sell EVs to the US without getting hit by Biden’s new tariff. This is already in progress:

Chinese automaker BYD has set its sights on Mexico as its quest for global expansion turns toward North America…Building cars in Mexico for the U.S. would allow the automakers to avoid hefty import tariffs that would be applied if they were to send them directly from China…At least a dozen Chinese electric-car component suppliers have announced new factories or added to their existing investments in Mexico in recent years[.]

Chinese-owned car factories in Mexico will be able to take advantage of Chinese supply chains (especially batteries), driving down their cost. They will make innovative Chinese designs, with those big screen interfaces that Kevin Williams loves so much. And they will incorporate whatever assembly-line innovations Chinese factories have discovered, driving costs down even further.

So Americans will still be able to get “Chinese” EVs, just not from Chinese factories. That’s fine. Mexico needs the jobs and income, American consumers could use some cheap futuristic cars, and American car companies could use the competition.

An open question is to what degree China’s government will decide to subsidize Chinese-owned factories in Mexico. Theoretically, China could deploy all the same policy tools that it uses to subsidize domestic production — tax credits, cheap loans, direct payments, etc — to help Chinese companies pump out cheap cars from Mexican factories.

Whether it’ll actually do that is another question entirely — China’s government may want to keep manufacturing jobs in the country, and thus be leery of subsidizing FDI. So we’ll see.

But even without subsidies, Chinese companies do indeed make cheap good EVs, and Americans will still be able to get their hands on them under the new tariff regime.

This gets a lot harder, of course, if we also put tariffs on EVs made in Mexico and other third countries. In fact, Trump is already threatening this:

[Trump] warned that Chinese companies will try to build cars in Mexico, then avoid tariffs by shipping them to the US under the US-Mexico-Canada Agreement, which Trump agreed to as president. Trump said he’d put a 200% tariff on Chinese-made cars in Mexico.

If the tariffs are expanded to include third countries like Mexico, then American consumers really could be locked out of the market for cutting-edge EVs. At that point, the only way for Chinese car companies to avoid the tariffs would be to make their cars in the United States.

Japanese brands did that quite successfully. But Chinese companies might be reluctant to do that, or their government might stop them from doing it. So we’ll see.

What do the tariffs mean for the US auto industry?

Biden’s tariffs will give U.S. car companies like GM and Ford a temporary reprieve from a potential wave of Chinese import competition. But unless Biden — or a future President Trump — put tariffs on EVs made in Mexico as well, the respite will be short-lived, because GM and Ford will still face brand competition from Chinese automakers in their domestic market.

That competition won’t just hit GM and Ford’s nascent EV business — it’ll hit their entire business. ICE cars and EVs are in direct competition with each other. And there are several structural factors that favor EVs over ICE cars in the long run. These include:

  1. Government efforts to accelerate the green transition
  2. The fact that battery tech is improving by leaps and bounds while ICE tech is basically stagnant
  3. The fact that battery costs are plunging every year due to scaling effects (largely from China)
  4. Home charging

I wrote a post last year arguing that EVs are destined to displace ICE cars, and that the change will happen quickly.

ICE cars have to fill up often, unlike EVs, which charge overnight in people’s garages and so only have to visit charging stations on long trips. So ICE cars require a dense network of gas stations to be viable.

As EVs start to take over the market and ICE cars become rarer, many of our existing gas stations will go out of business. That will make it less convenient to own an ICE car, which will accelerate the shift to EVs. Rinse and repeat.

Gas-powered cars will become a niche product fairly rapidly once this process begins, and EVs will be the cars that most people drive.

Right now, that isn’t happening. The market for EVs in the US is still increasing, but not as fast as many had expected, and as a result US automakers are scaling back their EV plans.

But most Americans — except for a hard core of conservatives who have turned green technology into a culture war — expect to get an EV in the not-too-distant future:

Source: Hannah Ritchie

If GM and Ford scale back their offerings, and if Tesla focuses on robotaxis instead of new better EVs, then there’s a high likelihood that the EV revolution in America will be carried out by Chinese companies building cars in Mexico.

Tariffs won’t stop that, unless A) we levy similar tariffs on Mexico and any other country, and B) Chinese car companies refuse to build factories in the US.

And there’s something else that no US tariff can stop: American car companies getting outcompeted in export markets.

Ford makes the bulk of its money from North America, but GM makes as much or more revenue in Asia, as does Tesla. U.S. tariffs obviously do not apply to Chinese EVs being sold to Vietnam, or Japan, or Australia, or anywhere else except the US.

So they will do absolutely nothing to help US automakers compete in key foreign markets. Many of those other countries are unlikely to put up giant Biden-style tariffs on Chinese EVs, so GM and Ford and Tesla will be facing BYD and the other Chinese automakers on a more-or-less level playing field overseas (except in China itself, where the government will tip the scales in favor of its own domestic brands).

Chinese competition could thus push American and other car companies out of world markets. That would exacerbate the existing trend:

Source: StockDividendScreener.com

US car companies — like European, Japanese, and Korean car companies — are thus in grave danger, tariffs or no tariffs. The EV transition is happening, and China is the best at EVs. Unless they can raise their game, they are, in the words of Kevin Williams, “cooked.”

Will the tariffs slow down the green transition?

A lot of people are worried that tariffs like these will slow down the transition to a low-carbon future powered by solar power and batteries. For example, David Fickling writes:

China’s widening lead in clean technology, coupled with its vast trade surplus…are combining with faltering efforts on decarbonization in developed countries to produce a toxic mix…If green technology such as electric vehicles…gets badged as foreign and threatening and finds itself excluded via…tariff policies, then drastically falling costs aren’t going to be enough to get it into the hands of consumers…An acceleration in trade wars will only slow our path to zero [carbon].

He’s right to worry. Transportation is responsible for almost 30% of US carbon emissions, or about 4% of the global total. If the US fails to switch to EVs, it could hamper decarbonization efforts by a small but noticeable amount.

Now, as I said before, if tariffs are only placed on EVs made in China, there’s not much to worry about here. Americans will still switch to EVs, they’ll just buy their Chinese-brand EVs from factories in Mexico. The green transition will continue apace.

If the US places tariffs on all foreign EVs, though, we could be in trouble. A refusal of GM and Ford to bet big on the EV transition (and Tesla’s pivot to robotaxis) would then be able to keep America as a gas-guzzling nation, clinging to our outmoded comfort cars, orphaned from global technology and locked out of the high-tech future.

And if Republicans turn EVs into a culture war the way they’ve done with lab-grown meat, they could enact restrictive state-level policies that would slow the transition even further.

So I am worried about the green transition in the US, though that worry depends very strongly on whether the US extends its tariffs to Mexican-made EVs.

What does this mean for trade policy going forward?

The most important thing about these tariffs is probably the message they send. Protectionism is now the consensus economic policy of both major political parties in the United States.

Biden has extended the Trump tariffs on China and levied the new EV tariffs; Trump is trying to one-up Biden by promising to raise the 100% tariffs to 200%, extend them to Mexico, and slap an additional 60% tariff on all Chinese-made goods.

There is currently no major party or presidential candidate that you can vote for in America that is even remotely interested in free trade. But that still leaves lots of questions. Most importantly, there’s the question of what, exactly, protectionism is trying to protect. I see four main potential purposes of tariffs:

  1. Protecting auto industry jobs and/or corporate profits
  2. Reducing trade imbalances with China
  3. Eliminating security risks from Chinese hacking
  4. Protecting domestic defense manufacturing capacity

The first of these is probably foremost in the minds of many progressives, and possibly Trump as well. On the plus side, if Chinese car companies could be persuaded to put their factories in the US like Japanese car companies did, labor-protectionists would be happy.

GM and Ford would still be mad, and they’d probably have some supporters in Congress, but the prospect of a whole bunch of good American manufacturing jobs in BYD or Geely factories would probably win out.

The second of these — reducing trade imbalances — is what everyone talks about. Articles about the Second China Shock usually mention things like Chinese underconsumption, overcapacity, and trade imbalances.

The Rhodium Group has a report called “Overcapacity at the Gates” that sums up the viewpoint well. The two most well-known commentators on this issue — or at least, the two I read the most — are Brad Setser and Michael Pettis, so if you want to learn more about this idea, check them out.

It’s not clear whether trade imbalances by themselves are a legitimate concern, or whether they’re a catch-all proxy for concerns about jobs and other issues. It’s also not clear whether tariffs can restore trade balance — it’s possible that the expensive dollar is to blame, and that only an abdication of the dollar’s role as the global reserve currency can fix things.

More on that in a post coming soon. But for right now, what’s clear is that many people are upset about trade imbalances, and tariffs are one available policy for trying to address those imbalances.

The third issue — security risks from Chinese-made goods — is something I’m not really qualified to assess. The fear is that if China’s security services put backdoors in Chinese-made products, they could use those built-in vulnerabilities to cause havoc in the US in the event of a war:

Commerce Secretary Gina Raimondo said connected cars “are like smart phones on wheels” and pose a serious national security risk.

“These vehicles are connected to the internet. They collect huge amounts of sensitive data on the drivers — personal information, biometric information, where the car goes,’’ she told reporters late Wednesday…

Data collection is not the only concern, she and other officials said. Connected vehicles could also be remotely enabled or manipulated by bad actors.

“Imagine if there were thousands or hundreds of thousands of Chinese-connected vehicles on American roads that could be immediately and simultaneously disabled by somebody in Beijing,’’ Raimondo said. “So it’s scary to contemplate the cyber risks, espionage risks that these pose.’’

Given how a single wayward cargo ship just took out a major bridge in Baltimore that will take years to repair, it’s pretty terrifying to think about how much destruction China could wreak if it controlled all of our cars.

I will say, though, that it seems like the danger here is entirely from Chinese-made computer chips. A GM or Ford car made with Chinese computer chips has the same vulnerability as a BYD car made with those same chips.

So if you’re worried about cybersecurity, it seems to me that the one and only thing you need to keep out of the US are Chinese-made semiconductors.

Anyway, this brings us to the final concern: defense manufacturing capacity. In times of war, civilian factories are typically repurposed to make war materiel — for example, when Ford churned out massive quantities of B-24 bombers during World War 2.

We have a law, called the Defense Production Act, that allows the government to order US companies to switch their production lines to make military equipment or other goods critical to national security (for example, we used the DPA to make companies build ventilators during Covid).

But the DPA is useless if you don’t have the factories to repurpose. If US heavy manufacturing withers and dies in the face of Chinese competition, the US won’t be able to add much to its defense production capacity in a war. That could lead to a swift and devastating US defeat at the hands of China.

My guess is that China knows this very well, and that this is one reason it has been so generous with subsidies and so gung-ho about ramping up manufacturing exports.

Yes, of course they want jobs and growth, but the tantalizing potential of forcibly deindustrializing the West through subsidized exports has undoubtedly crossed the minds of every Chinese leader.

So in order to have domestic manufacturing available for military repurposing, it’s probably necessary to erect trade barriers to protect against massively subsidized Chinese import surges.

This consideration has nothing to do with American jobs or profits or trade deficits — it’s just a cold, hard military reality. Opponents of protectionism — the Cato Institute, the writers at The Economist, and so on — seem to have no alternative answer here.

In other words, there are multiple intersecting reasons for tariffs to go up, and most off these have bipartisan appeal. Biden’s big tariffs on Chinese EVs are likely only the start of a major shift in America’s trade policy.

This article was first published on Noah Smith’s Noahpinion Substack and is republished with kind permission. Read the original and become a Noahopinion subscriber here.

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